This note endeavours to provide clarity on whether domestic mutual funds can be regarded as an Investment Vehicle for the purpose of reporting foreign investment to RBI.
Investment Vehicle & Mutual Funds: Meaning
‘Investment Vehicle’ is defined under the FEMA (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2017 (‘TISPRO Regulations’)
“means an entity registered and regulated under relevant regulations framed by Securities and Exchange Board of India or any other authority designated for the purpose and shall include Real Estate Investment Trusts (REITs) governed by the Securities and Exchange Board of India (REITs) Regulations, 2014, Infrastructure Investment Trusts (InvIts) governed by the Securities and Exchange Board of India (InvIts) Regulations, 2014 and Alternative Investment Funds (AIFs) governed by the Securities and Exchange Board of India (AIFs) Regulations, 2012.”
‘Mutual Fund’ is defined in SEBI (Mutual Funds) Regulations, 1996:
“means a fund established in the form of a trust to raise monies through the sale of units to the public or a section of the public under one or more schemes for investing in securities including money market instruments or gold or gold related instruments or real estate assets.”
Foreign Investment in Investment Vehicle
Definition of Investment Vehicle and manner of obtaining FDI in Investment Vehicles was inserted vide Notification No. FEMA. 355/2015-RB dated November 16, 2015, vide the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) (Eleventh Amendment) Regulations, 2015. Pursuant to this person resident outside India could invest in units of an Investment Vehicle on the fulfilment of certain conditions. TISPRO Regulations issued by RBI inter-alia provides for foreign investment in an Investment Vehicle.
RBI vide RBI/2015-16/377 A.P. (DIR Series) Circular No. 63 dated April 21, 2016 explained the intent of allowing foreign investment in the units of Investment Vehicles registered and regulated by SEBI or any other competent authority. It was specifically provided that Investment Vehicle will include the following:
Real Estate Investment Trusts (REITs) registered and regulated under the SEBI (REITs) Regulations 2014;
Infrastructure Investment Trusts (InvITs) registered and regulated under the SEBI (InvITs) Regulations, 2014;
Alternative Investment Funds (AIFs) registered and regulated under the SEBI (AIFs) Regulations 2012.
Regulation 5 (8) of the TISPRO Regulations covers foreign investment in an Investment Vehicle and states –
“A person resident outside India, other than a citizen of Bangladesh or Pakistan or an entity incorporated in Bangladesh or Pakistan, may invest in units of an Investment Vehicle, in the manner and subject to the terms and conditions specified in Schedule 8.”
An investment made by Investment Vehicle
It is to be noted that investment by an Investment Vehicle in an Indian entity shall be regarded as an indirect foreign investment for the investee Indian entity if the Sponsor or the Manager or the Investment Manager-
(i) is not owned and not controlled by resident Indian citizens or
(ii) is owned or controlled by a person resident outside India.
Further, Regulation 14 (i) of the TISPRO Regulations, defines indirect foreign investment as downstream investment received by an Indian entity from:
(ii) an investment vehicle whose sponsor or manager or investment manager (i) is not owned and not controlled by resident Indian citizens or (ii) is owned or controlled by persons resident outside India
Foreign investment in units of Mutual Funds
As per Regulation 5 (5) of the TISPRO Regulations,
“A person resident outside India, permitted for the purpose by the Reserve Bank in consultation with Central Government, may purchase or sell securities other than capital instruments in the manner and subject to the terms and conditions specified in Schedule 5.”
Schedule 5 dealing with Purchase and sale of securities other than capital instruments by a person resident outside India provides as under:
“1. Permission to a person resident outside India
A. Permission to Foreign Portfolio Investors (FPIs)
An FPI may purchase the following instruments on repatriation basis subject to the terms and conditions specified by the Securities and Exchange Board of India and the Reserve Bank:
(d) units of domestic mutual funds;
B. Permission to Non-resident Indians (NRIs) or Overseas Citizens of India (OCIs) – Repatriation basis
(1) A Non-resident Indian (NRI) or an Overseas Citizen of India (OCI) may, without limit, purchase the following instruments on repatriation basis,
(a) Government dated securities (other than bearer securities) or treasury bills or units of domestic mutual funds;
C. Permission to Non-resident Indians (NRIs) or Overseas Citizens of India (OCIs) – the Non-Repatriation basis
(1) An NRI or an OCI may, without limit, purchase on non-repatriation basis, dated Government securities (other than bearer securities), treasury bills, units of domestic mutual funds, units of money Market Mutual Funds, or National Plan/ Savings Certificates.
E. Permission to other non-resident investors for the purchase of securities
(2) Long term investors like Sovereign Wealth Funds (SWFs), Multilateral Agencies, Endowment Funds, Insurance Funds, Pension Funds and Foreign Central Banks registered with Securities and Exchange Board of India may purchase, on repatriation basis the following instruments and subject to such terms and conditions as may be specified by the Reserve Bank and the Securities and Exchange Board of India:
(c) units of domestic mutual funds;”
Can Mutual Fund be regarded as an Investment Vehicle?
As evident, investment in units of domestic mutual funds is separately dealt in Regulation 5 (5) read with Schedule 5. Investment in units of Investment Vehicle is separately dealt in Regulation 5 (8) read with Schedule 8.
Regulation 5 (8) and Schedule 8 was inserted in 2015 and as clearly evident from the RBI Circular referred above, the intent was to include only three types of collective investment vehicle in the definition of Investment Vehicle.
It will be incorrect to regard the definition of Investment Vehicle an inclusive definition and include all kinds of similar vehicles that pools money and invest in other companies. It was not that Mutual Funds is a small segment and that RBI missed making a mention about the same. Mutual Fund industry has existed for two decades and invests huge amounts of monies in companies.
As clearly explained by Hon’ble Supreme Court in the matter if N D P Namboodripad (Dead) By Lrs vs Union Of India & Ors (2007) 4 SCC 502:
“15. The word 'includes' has different meanings in different contexts. Standard Dictionaries assign more than one meaning to the word 'include'. Webster's Dictionary defines the word 'include' as synonymous with 'comprise' or 'contain'. The Illustrated Oxford Dictionary defines the word 'include' as : (i) comprise or reckon in as a part of a whole; (ii) treat or regard as so included. The Collins Dictionary of English Language defines the word 'includes' as : (i) to have as contents or part of the contents; be made up of or contain; (ii) to add as part of something else; put in as part of a set, group or a category; (iii) to contain as a secondary or minor ingredient or element. It is no doubt true that generally when the word 'include' is used in a definition clause, it is used as a word of enlargement, that is to make the definition extensive and not restrictive. But the word 'includes' is also used to connote a specific meaning, that is, as 'means and includes' or 'comprises' or 'consists of'.”
Schedule 8 nowhere talks about investment in units of a mutual fund. There is no specific mention about mutual funds even in the definition of Investment Vehicle for the simple reason that investment in units of domestic mutual funds is covered under Schedule 5 as it is regarded as security other than capital instruments.
Hence these two terms are mutually exclusive.
TISPRO Regulations have always distinguished units of mutual funds from units of Investment Vehicle. The format of Form INVi recently provided in Single Master Form  also provides for reporting by (Real Estate Investment trusts, Infrastructure Investment trusts, Alternate Investment Funds –Cat-I, Alternate Investment Funds –Cat-II, Alternate Investment Funds –Cat-III, Others). It cannot be inferred that others in this case means Mutual Funds as mutual funds have existed for almost two decades.
Further, it is also pertinent to mention mutual funds are in the nature of Trusts while an Investment Vehicle may be in the nature of Trusts, company or LLP. As per Para 3.2.3 of Consolidated FDI Policy, FDI is not permitted in Trusts other than in ‘VCF’ registered and regulated by SEBI and ‘Investment vehicle’. Investment in units of mutual funds has always been covered under investment in instruments other than capital instruments.
Accordingly, in our view, in the case of a domestic mutual fund, the question of who is the sponsor is irrelevant. Hence, domestic mutual funds cannot be regarded as the foreign-owned or controlled vehicle and cannot be regarded as an FOCC for the purposes of determining indirect foreign investment.
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